ECB holds rates, focus shifts to new forecasts

Mario Draghi, President of the European Central Bank (ECB) is silhouetted arrives for the European Banking Congress, at the old opera house in Frankfurt, November 22, 2013.Kai Pfaffenbach

FRANKFURT (Reuters) - The European Central Bank left interest rates unchanged on Thursday, pausing to assess the health of the euro zone recovery after taking action a month earlier in response to falling inflation, which is now abating.

The decision to hold the main refinancing rate at a record low of 0.25 percent was widely expected after the ECB's surprise decision to cut borrowing costs last month.

"This is in line with expectations as the ECB's action last month was seen to have rebalanced risks to price stability and also pre-empted the publication of what we think will be weak inflation projections," said Nomura economist Nick Matthews.

Markets' attention now shifts to ECB President Mario Draghi's 1330 GMT news conference, at which he will present updated projections from the ECB's staff, which will include their first forecasts for 2015.

The new estimates will give markets insight into the ECB's view on inflation over the medium term, the horizon over which it aims to deliver price stability in line with its target.

Should the new projections point to price growth still clearly undershooting the ECB's target in 2015 - analysts expect a forecast of 1.3 or 1.4 percent - expectations will grow that the bank will take fresh action early next year.

Berenberg bank economist Christian Schulz expected the new forecasts to show inflation staying below the ECB goal in 2015.

"That will raise questions next time Draghi goes to the European Parliament as to why they are not doing more to achieve their own target, and could raise the pressure on the ECB to do more over the coming months," he said.

However, the ECB's hawks would resist further easing.

November's cut followed a fall in euro zone inflation to 0.7 percent in October - far below the ECB's target of just under 2 percent. It has since picked up to 0.9 percent and unemployment fell in October, offering the ECB a reprieve.

POLICY OPTIONS

In the run-up to Thursday's meeting, several senior policymakers have flagged the ECB's readiness to ease policy further if needed, while at the same time playing down the prospect of immediate action.

Peter Praet, the bank's chief economist who begins the rate meetings with a policy recommendation, last month put the possibility of the ECB embarking on asset buys - or quantitative easing (QE) - on the agenda.

However, another senior ECB policymaker, Benoit Coeure, said last week the ECB does not need to make large-scale asset purchases like the U.S. Federal Reserve given the euro zone's inflation outlook.

The bank's vice-president, Vitor Constancio, has also said the ECB would only cut the deposit rate it pays banks for holding their money overnight - now at zero - into negative territory in an extreme situation.

Constancio dampened speculation the ECB was actively preparing to inject more funds into the financial system, though a Reuters poll last week suggested the ECB will offer banks a new batch of long-term loans (LTROs) early next year.

RBS economist Richard Barwell said the ECB could boost markets' confidence in the central bank's readiness to take further action if it presents a more specific plan of action.

"They will say all options are on the table, but I would prefer it if they were more specific about which options they think they would use - and how and when," he said.